Outsourcing procurement is a good strategy for reducing expenses and improving cash on hand.
 
by Bill Huber
 
While the global economy slogs ahead and financial markets remain uncertain at best, businesses are understandably hesitant to undertake new corporate initiatives of any significance. That is, unless such initiatives will position them to weather the downturn and create a strategic advantage to leverage and gain a leg up before the tide of a better economy raises all competitors.

The tools to create that strategic advantage shift during a downturn, when both cash on hand and a flexible balance sheet can be critical differentiators. Procurement is often one of the fastest and most reliable business functions in which to reduce expenses and improve cash on hand; however, companies are often challenged to achieve and sustain these savings utilizing internal resources alone. In addition to resource and talent constraints in strategic sourcing and commodity management, companies can often face compliance issues, spend visibility, demand management and other savings leakage challenges over time.

Recent research by the Aberdeen Group indicates that companies that have engaged in procurement outsourcing have achieved a 20 percent to 25 percent improvement in cost savings within three years. Additionally, balance sheet flexibility can be improved through outsourcing by converting fixed expenses to variable expenses. Procurement outsourcing can combine both of these strategies.

Procurement outsourcing can definitely be an option for faster implementation and sustained capture of real savings, but a philosophical “discussion” needs to take place first. That discussion needs to discern which elements of procurement are core business functions, and which elements can be more effectively provided by a third party.

Is Procurement Core?
A “core” business function is a group of tasks that differentiate a company in its execution of its core business strategy. In principle, a core function comprises activities that a business should perform distinctively better than its competition. However, even within core functions, many activities frequently are nondifferentiating and can be examined for more effective service delivery options. Historically, sourcing service providers will tell prospective clients that procurement should be core for certain functions and areas of spend, but for other functions and areas, the transactional, rules-driven nature of procurement makes it a prime candidate for automation and outsourcing.
Differentiating procurement functions and areas of spend will vary by company and industry. The ability to build and manage relationships that enable a company to deliver a unique product or service more quickly  tends to be core. For example, a company that manufactures computers may have a strategic supplier relationship with a company that makes certain microprocessors that differentiates their product; or a retail company may maintain strategic relationships with logistics organizations that enable it to deliver its products to end customers more efficiently.

Those more-common business activities are important, but not differentiating and are, therefore, excellent candidates for sourcing consideration. For this reason, “indirect spend” is often a prime area to consider for procurement outsourcing. Indirect spend can include areas such as office supplies as well as common services such as overnight mail, office and facilities services, IT and certain professional services.  

Even within core areas of strategic spend, many transactional or analytical activities can often be performed by a third party more efficiently. The difference between core and “important” business functions reflects the individual nuances of each business and what works best for its operations. Companies wishing to explore procurement outsourcing as an option to generate cost savings and provide greater flexibility should conduct a thoughtful analysis to identify those areas where procurement could be more efficient and cost-effective if it were outsourced.

Benefits of Procurement Outsourcing
Procurement outsourcing utilizes several levers that can result in faster and more comprehensive cost savings versus internal organizations. For example, being able to leverage supply market knowledge across companies and industries can result in more effective sourcing. Their clients can gain access to the service provider’s technology expertise for spend analysis, eRFx, reverse auctions, supplier enablement, e-procurement and e-invoicing. Outsourcing can also free up budget and key resources so that the retained client organization can better focus on strategy, governance, and those sourcing categories and supplier/provider relationships that provide a unique and differentiating source of value to the company.

Procurement outsourcing can lead to improvements in operations and service levels. Operational cost reductions of 15 percent to 20 percent can be achieved through process improvement, implementing more appropriate staffing levels, standardizing processes and realizing economies of scale. Procurement outsourcers have achieved maturity in a service-level-driven approach that can drive greater consistency in service and ensure that resources are focused on those activities that are important to the client.

Service providers can also help to ensure that capabilities continue to increase year over year. Many companies tend to defer investment in procurement capabilities, and procurement organizations often struggle to fund critical capabilities. In fact, as a perceived cost center, procurement organizations often face significant staff reduction pressures despite the benefits that effective procurement can bring to a company. Procurement outsourcing service providers, on the other hand, invest in these capabilities in order to win business and sustain their growth. For this reason, they can often be in a better position to meet changing demand for category sourcing, supplier enablement, certain ad hoc buys and other areas of procurement services.
Procurement outsourcing can also be an effective risk management strategy. On average, following outsourcing, the percentage of spend with high visibility is improved by 84 percent based on Aberdeen research in 2007, and the percentage of spend with poor visibility is reduced by half. Additionally, inconsistent processes become more standardized and are able to more systematically and effectively comply with Sarbanes-Oxley standards and other regulatory requirements.

Market Maturity
Many of the emerging service providers bring a familiarity with the major procurement and ERP tools along with CMM (capability maturity model) capabilities in software development and implementation. This can result in both faster implementation and lower support costs for procurement tools and technology. In this economic climate, service providers know that solid potential client prospects need to be converted into contracts. Subsequently, negotiations for providing outsourced procurement services tend to be accelerated.  

The new breed of offshore procurement outsourcing companies is bringing more educated workers to their engagements than in previous years. These service providers utilize sourcing expertise in common commodity areas across multiple clients, providing a more efficient and effective market insight capability, which results in better pricing, contractual structure and faster negotiation in these commodity areas.

Service providers are increasingly leveraging an on-site/onshore/offshore model in procurement outsourcing implementations. In this model, consultative sourcing and certain commodity management activities are performed at the client site, and offshore delivery centers are leveraged for transactional processing, systems support and vendor/contract file administration. The providers are also offering higher skill “procurement knowledge process outsourcing” offshore resources for areas such as contract drafting or supplier risk analysis. Many of these people have legal or advanced business degrees or similar backgrounds.

Process Makes Perfect
Outsourced or not, process management provides more accurate and timely spend data and process data to enable better governance of procurement activities, thereby enabling more effective sourcing strategy and improved compliance and demand management. Service providers apply a core competence in process management and LEAN and Six Sigma methodologies to drive efficiency and standardization of procurement processes that merit your consideration.

While procurement outsourcing holds considerable appeal, especially in this economic climate, prospective clients need to be mindful of potential challenges that loom on the horizon. Selecting the right service provider is critical because the wrong fit can result in poor alignment between supplier and client cultures. Without solid cultural alignment and the ability to garner sufficient insight into the client organization and their process designs, service providers will have difficulty in identifying skills, maintaining relationships and offering applicable insights. Finally, it is critical for companies to invest in their internal governance organizations to effectively manage their procurement outsourcing relationship.

Moving Forward
This may be the right time to consider procurement outsourcing. While the recent dramatic global economic downturn has underscored the need to examine new strategies, a significant maturation of the procurement outsourcing market has resulted in new options, greater competition among providers and lower-risk approaches for companies considering procurement outsourcing. For example, in the last two years, offshore procurement outsourcers have significantly expanded their capabilities, and are offering strong skill sets, lower labor rates and complementary competencies in procurement technology platforms.

While today’s financial uncertainty has paralyzed significant portions of the global economy, companies still need to move forward to ensure they maintain a strategic advantage in their respective marketplaces. Sourcing procurement is one key area where businesses can leverage the tested people and processes of capable service providers to drive innovation and value within their organizations.

Bill Huber is director of CPO Services for TPI. He joined TPI in 2006 following a career spanning four Global 500 companies with responsibility for all areas of outsourcing and procured services. He can be reached at bill.huber@tpi.net or 704.806.3910.